Dufek notes that he often gets blank looks when he asks that
question, or the plan sponsor attended an event and heard that it was a good
thing to do. “Some plan sponsors jump into it without thinking it through, and
they often do not meet their goals or create administrative headaches,” he
says.

“Each plan sponsor has independent reasons to auto-enroll or
not,” adds Dennis Sain, senior vice president of Retirement Services at The
Newport Group, who is based in Chicago. He gives the example of a client
with only 60% participation in its 401(k) plan, for which Newport has suggested
automatic enrollment. The client offers a very rich plan, with 100% match of
employee deferrals up to 6%, as well as a profit sharing contribution that all
eligible employees receive. The company balked at the additional cost
auto-enrolling employees would create. It didn’t have problems with
nondiscrimination testing and felt the richness of its plan was accomplishing
the goal of attracting physicians to its group, so it decided against
auto-enrollment.

However, a plan sponsor more concerned about the relatively
low participation rate, or that was having problems with nondiscrimination testing
may have decided to implement automatic enrollment. Dufek says if a client is
concerned about increasing its costs by auto-enrolling employees, he sometimes
suggests the company amend its match formula at the same time. For example, a
company matching 50% of up to 6% of employee deferrals may decide to instead
match 25% of up to 12% of deferrals. This could also accomplish the goal of
encouraging employees to save more.

When plan sponsors have a goal of increasing participation
or helping more employees save for retirement, they may consider implementing
auto-enrollment for all employees, including existing employees, and not just
new hires. The plan sponsor’s goal can determine how conservative or aggressive
they are going to be with automatic enrollment, says Sain. An example of a
conservative approach, according to Sain, is a client that implemented
automatic enrollment to all participants at only a 2% default deferral, without
also implementing automatic deferral increases. An aggressive approach was
implemented by another client that automatically enrolled all participants at a
6% default deferral and also implemented a 2% per year automatic deferral
increase up to 10%.

According to Dufek, a lot of times, companies do have
nondiscrimination testing issues and want to implement automatic enrollment so
highly compensated employees can defer what they want and not have deferrals
returned due to failed nondiscrimination tests. However, if a plan sponsor sets
the auto-enrollment deferral rate too low, the average deferral rate may still
be too low to help highly compensated employees contribute more. Dufek says
companies wanting to solve this issue should auto-enroll at higher deferral
rates.

Immediate eligibility for defined contribution retirement
plans is increasingly being used as plan sponsors try to improve employees’
retirement outcomes. However, this can be an issue if implementing automatic
enrollment. “If there is no service requirement, plan sponsors can end up
missing someone, or more likely, auto-enrollment is inconsistent; some
employees may be enrolled with their first paycheck, some with the second, some
with the third,” notes Dufek.

He recommends plan sponsors change to a service requirement
of 60 days and provide for an entry date as of the first of the month
coinciding with or following the service requirement. “This gives time for
paperwork to be processed and for participants to opt out. It also establishes only
one payroll period per month for new enrollments, instead of each pay period,”
Dufek says. He adds that this mitigates compliance issues, and it can also
solve the issue of having small plan balances for employees who opted out of
auto-enrollment after payroll started deferrals, which can add more costs for
plan sponsors.

According to Sain, a 30-day service requirement offers
enough time for payroll and the plan provider to be notified of the enrollment.
He notes that the plan can be amended to allow for a distribution of small plan
balances caused by employees opting out of auto-enrollment. The Employee
Retirement Income Security Act (ERISA) allows plan sponsors to provide
participants with a period of up to 90 days to opt out of automatic enrollment
and receive a permissible distribution of those balances with no tax
consequences. Sain admits this will add an additional layer of communication
and administration for plan sponsors, but it can be helpful in ensuring
auto-enrollment goes smoothly.

Some plan sponsors adopt automatic deferral increases along
with automatic enrollment, and some provide that the deferral increase is made
on a participant’s plan anniversary date, Dufek notes. “I can’t think of an
instance where this didn’t cause problems,” he says. He always recommends the
increase be effective every January 1 or every January 1 and July 1. “To have
to monitor this each payroll date is an administrative nightmare.”

Dufek concludes: “As auditors we see a lot of failures due
to automatic enrollment, either breaking the law or operational failures, so
plan sponsors should put language in their plan document that is easy to follow
and not burdensome to live with.”